September 21, 1978
Mr. Al A. Asher, Administrator
South Dakota Retirement System
Public Employees Insurance System
216 East Capitol
Pierre, South Dakota 57501
Official Opinion No. 78-41
Whether a retirement bonus is compensation under SDCL 3-12-47
Dear Mr. Asher:
You have requested an official opinion from this office based on the following factual situation:
FACTS:
X, a teacher, is 55 years of age and has accumulated 22 years of credited service under the South Dakota Retirement System; 13 years with his present employer. X became disabled on June 1, 1977. X has applied both for disability benefits and early retirement benefits under the South Dakota Retirement System. X is aware that he can receive only one benefit. Assume that X's application for disability would be approved.
X's employer has a plan whereby a teacher retiring early will be paid a retirement bonus, provided that the teacher has 13 or more years of service with that employer. The payment is a percentage of salary. The earlier a teacher retires the greater the percentage. The bonus is a one-time payment which may be paid in a lump sum or in two equal annual installments at the teacher's option. X, insofar as his employer is concerned, has retired and has received his retirement bonus.
Based on the above factual situation, you have asked the following specific questions:
QUESTIONS:
1. Is the retirement bonus “compensation” as defined in SDCL 3-12- 47(15)?
2. Must the retirement bonus be included in the calculation of disability benefits payable under SDCL 3-12-99?
3. Must the retirement bonus be included in the calculation of early retirement benefits under SDCL 3-12-91 and 3-12-106, subject, of course to the limitations of SDCL 3-12-47(23)?
4. Is the early retirement bonus subject to South Dakota Retirement System contributions under SDCL 3-12-71?
5. If X elects to accept the early retirement bonus in two equal annual installments, does that fact change any of the answers to Questions 1 through 4?
6. If X elects to accept the early retirement bonus in two equal annual installments, is X entitled to be credited with contributory service during the period over which the installments extend?
SDCL 3-12-4(15) reads as follows:
“Compensation,” gross wages paid to a member for personal services rendered during the period considered as credited service, as reported on the member's federal income tax withholding statement, plus any amount used to purchase a member's individual retirement plan not reported for federal income tax purposes.
There are four tests which must be satisfied in order for the payment in question to be “compensation.” The payment must be:
1. Gross wages,
2. paid to a member,
3. for personal services rendered during the period considered as credited service, and
4. must be reported on the W-2 form.
Without expressing any opinion on federal income tax matters, I assume that the amount in question would appear on X's W-2 form. That fact is not determinative in and of itself. Inclusions on the form as “wages, tips and other compensation,” is only one of four tests to be applied. In addition, under the definition in SDCL 3-12-47(31) X is clearly a “member.” The question involves the first and third tests. Research does not disclose any South Dakota case bearing on this issue. Looking at other jurisdictions, the definitions of “wages” and “compensation” have litigated many times but very seldom in the present context.
In a fairly recent case, Russell v. Prudential Insurance Company of America, 437 F.2d 602 (1971), the United States Court of Appeals for the Fifth Circuit considered a disability insurance policy which excluded a 'bonus' from the determination of wages for purposes of computing the disability benefit. The payment in question was a percentage of company profits paid in addition to salary. The court held that the percentage of profits was not a bonus. The rationale was that it was incentive pay paid according to a plan of compensation and lacked the unexpected quality of a bonus. While that case is not directly on point, it is instructive because of the distinction made between the one-time payment conditioned on the occurrence of a particular event and a regular planned payment conditioned on performance which is a part of the employment contract.
It would be of no purpose to engage in a lengthy review of cases construing “compensation,” “wages” or “bonus” because of a lack of uniformity. Most of those cases arise out of definitions contained in worker's compensation or unemployment compensation statutes or the Internal Revenue Code which definitions bear little resemblance to SDCL 3-12-47(15).
There are, however, a few cases which deal with the nature of a bonus as contrasted with compensation or wages. In Millican Electric Company, Inc., v. J. W. Fisher, 102 Ga.App. 309, 116 S.E.2d 311 (1960), the court, in determining that the concept of a bonus was inconsistent with a quantum meruit theory of recovery, held that a bonus was not a payment based upon services rendered. The definition of bonus adopted was “something 'extra' for which no services are rendered (see Webster's New International Dictionary), or it is something in addition to ordinary compensation.” The same definition was used again in Management Search, Inc. v. Morgan, 136 Ga.App. 651, 222 S.E.2d 154 (1975). In Diamond v. Davis, 62 N.Y.S.2d 181 (1945), a case involving the propriety payment of bonuses by a corporation, the court stated that a “bonus implies a benefit accruing to the one offering it and an inducement to the one to whom it is offered.” Scott v. J. F. Duthie & Company, 125 Wash. 470, 216 P. 853 (1923), a case involving the enforcement of an agreement to pay a bonus to a foreman if he would remain in the company's employment until the completion of a ship construction contract, treated a bonus in much the same manner.
The cases cited above, as well as many others, distinguish between payments which are made pursuant to the compensation package normally arising out of the employment relationship and payments in addition to that compensation package. To be “wages,” for purposes other than questions of income taxation, the payments must have a relationship to the services rendered within the terms and conditions of the employment relationship. Therefore, “bonuses” consisting of payments under incentive programs, or programs to reward superior performances are usually considered wages.
In the case about which you have inquired, the payment, although part of an established program, was not made because of X's superior performance or as an incentive to X to continue to perform at a high level. Further, the payment bore no relationship to services rendered by X within the employment relationship. In fact the payment was a reward for terminating the employment relationship.
In my opinion, the early retirement bonus is not “gross wages” nor is it paid for personal services rendered during the period considered as credited service.
The conclusion reached above is consistent with the philosophy behind an early retirement bonus system. By retiring early, a member not only forgoes the salary which would have been earned during the years between the early retirement date and the normal retirement date, but also suffers a fairly substantial reduction in retirement benefits under SDCL 3-12-106. Further, by retiring early, a teacher gives up certain rights to continued employment under SDCL 13-43-9.1 to 13-43-11. It appears that the particular school system employing X has determined that the system will benefit if some of the older teachers retire early. Consequently, the school system has offered a payment to those teachers who agree to waive their right to continued employment and to forego salary and accept the reduced retirement benefits. The payment is to help replace the income lost during the period between early retirement and normal retirement age. The fact that X's retirement resulted from a disability does not change the nature of the payment or of the program under which the payment was made.
This conclusion is also consistent with the philosophy behind the disability provisions in SDCL 3-12. The Legislature enacted SDLC 3-12-98 through 3-12- 103 to provide an income for those members unfortunate enough to become unable to earn an income because of disability. Under SDCL 3-12-99, that income was fixed at a level based on the member's highest annual compensation in any one of the three years preceding disability. The intention was to base the disability benefit on the standard of living which the disabled member had become accustomed to in the period immediately prior to the disability. To include an early retirement bonus in compensation would base the disability income on a higher standard than was intended.
In addition, inclusion of this type of bonus in the term compensation might prove harmful to the financial soundness of the South Dakota Retirement System. The South Dakota Retirement System is based on certain actuarial assumptions relating to levels of compensation. Inclusion of this kind of bonus for purposes of disability cases, if such bonuses became fairly common, could cause a steep increase in disability benefits. Such an increase might well result in a situation where the contribution rate would become inadequate to support the South Dakota Retirement System on an actuarily sound basis.
Also, I notethat, in defining wages for purposes of unemployment compensation (SDCL 61-1-1(9)), the Legislature considered that, in order to include bonuses in the term “wages,” it was necessary to use the words “including commissions and bonuses.” SDCL 3-12-47(15) does not include those words.
The answers to your specific questions are as follows:
1. The retirement bonus is not “compensation” as defined in SDCL 3-12- 47(15);
2. Because of the answer to Question 1, the bonus is not to be included in the calculation under SDCL 3-12-99;
3. The bonus is not to be included in the calculation of early retirement benefits under SDCL 3-12-91 and 3-12-106;
4. The bonus is not subject to contributions under SDCL 3-12-71;
5. Acceptance of the bonus in installments does not change the answers to the first four questions; and
6. Acceptance of the bonus in installments does not entitle X to additional credited service beyond his retirement date.
Respectfully submitted,
William J. Janklow
Attorney General
WJJ:DOC:in
